BEPS – Some Transfer Pricing AspectsYariv Brauner

University of Florida

Madrid, 2014

BEPS – Relevant Background• BEPS is a political initiative• In response to media exposure– Most importantly: MNEs do not pay enough tax

• Primary response of the more powerful economies (G20, OECD) to corporate tax avoidance

• But also the decline of the traditional powers, unsustainable welfare state model, and the rise of the BRICS with a different agenda

• Failure of the current – OECD led – international tax regime (“ITR”)

• Yet, the OECD is trusted with the reform project

BEPS – Statement• Change of paradigm from competition to

international cooperation– Including exploration of multilateral policy actions

• Comprehensive rather than ad-hoc tax reform• Accept elimination of double taxation as a

primary principle and exchange of information and mutual agreements as complementary– But, double non-taxation must also be addressed– Balanced to ensure legal certainty

• A Pragmatic rather than principled approach

BEPS – Policy Challenges• International Tax regime based:– Bilateral tax treaty arrangements– Loose coordination within a world dominated by

tax competition• Political / economic power shifts• Ineffective domestic anti-abuse regimes

(Transfer Pricing, CFC, GAAR) • Challenges of group v. legal person taxation– Technical: Arm’s length, Debt funding– Innovation: e-commerce, derivatives, Intangibles

BEPS – Policy Challenges (Cont.)• Unclear overall goal (“fair allocation”?)– Political mix of ideas and tensions• Many in conflict with OECD orthodoxy

– Substantive policy conflicts – beyond exchange of information and dispute resolution

– OECD has an institutional stake– OECD personnel have personal stakes– What is success?– What happens if failure (next steps…)– Difficulties of an unprincipled approach

Transfer Pricing

• Main trigger• The report complains primarily about “the

artificial splitting of ownership of assets between legal entities within a group, and transactions between such entities that would rarely take place between independents.”

• Here, differently there was a unifying principle (ALS) and adherence to the separate corporate personality convention– Yet, still uncoordinated application / rules led to BEPS

Transfer Pricing (Cont.)

• Intangibles are not the most acute problem, it is the problem• An inherently bilateral issue is dominated by unilateral action• The separate corporate personality must lose its natural law

status• Literal Arm’s Length and the energy to protect it encourages

the unilateral action and paralyzes / prevents genuine coordination

• Fundamental mistakes: valuation, ignoring pragmatic challenges, cost sharing, internal comparables

• APA are not a panacea• Can we trust the OECD with this?

Digital Goods and Services

• Complements the focus on intangibles• “Application of treaty concepts to profits derived from the

delivery of digital goods and services” is a pressure key• Old fashioned flesh, blood and cement basis

– Refusal to admit that digital is different and requires innovation, not massaging

• Excessive use of fictions and complex rules inevitably leads to gaps between the uncoordinated laws of the various countries

• PE faces challenges– Is it the problem?– But still, separate article 5 from 7

Action Item 8

• Develop rules to prevent BEPS by moving intangibles among group members. This will involve:

• (i) adopting a broad and clearly delineated definition of intangibles;

• (ii) ensuring that profits associated with the transfer and use of intangibles are appropriately allocated in accordance with (rather than divorced from) value creation;

• (iii) developing transfer pricing rules or special measures for transfers of hard-to-value intangibles; and

• (iv) updating the guidance on cost contribution arrangements.

Action Item 8

• This is the (sin)e qua non of BEPS• Elephant in the room: sometimes arm’s length does

not work…– “Hard-to-value” intangibles– Profit split– Safe Harbors

• Principle: TP must be in line with “value creation”• But, do not reach the logical conclusion: FA• Technical points– All intangibles lumped together– CCAs???

Action Item 9

• Develop rules to prevent BEPS by transferring risks among, or allocating excessive capital to, group members.

• This will involve adopting transfer pricing rules or special measures to ensure that inappropriate returns will not accrue to an entity solely because it has contractually assumed risks or has provided capital.

• The rules to be developed will also require alignment of returns with value creation.

• This work will be co-ordinated with the work on interest expense deductions and other financial payments.

Action Item 9

• Reaffirmation of principle: in line with value creation

• Capital– Related parties clearly differ from market

transactors– See work on new article 7

• Risk– Purely legal– Controlled by taxpayer, not the market– Ignored under the value creation principle?

Action Item 10

• Develop rules to prevent BEPS by engaging in transactions which would not, or would only very rarely, occur between third parties.

• This will involve adopting transfer pricing rules or special measures to: – (i) clarify the circumstances in which transactions can be

recharacterised; – (ii) clarify the application of transfer pricing methods, in

particular profit splits, in the context of global value chains; and

– (iii) provide protection against common types of base eroding payments, such as management fees and head office expenses.

Action Item 10

• In principle, a big step: arm’s length is not an emperor – in applicable sometimes– But, does not say so directly– However, specifically mentions profit split for face saving

purposes• Basically this is an elaboration on AI 8• Awkward mention of re-characterization – this is old TP• Direct mention of Base erosion payments

– Narrowing the field?– Channel for minimal guaranteed achievements: management

fees and HQ expenses– But, not really the issues that triggered BEPS

• Amend article 9?

Action Item 13

• Develop rules regarding transfer pricing documentation to enhance transparency for tax administration, taking into consideration the compliance costs for business. The rules to be developed will include a requirement that MNE’s provide all relevant governments with needed information on their global allocation of the income, economic activity and taxes paid among countries according to a common template.

Action Item 13• Utilitarian language– But, purpose clear: provide useful, necessary

information for revenue collection• Practically– Standard TP reporting

• Implicitly rejects (ludicrous) unilateral TP practice• Amenable to inclusiveness

– CBC• Publicly available?

– Are they tied politically or independent?• Don’t forget: there is no good reason for corporate

tax returns t be confidential

Conclusions• Merits

– Coordination above all: some issues cannot be resolved unilaterally– Attention to substance, not just administrative measures– Acknowledgement of the single tax principle– Acceptance of gradual convergence of key tax base rules as possible and

desirable even without a comprehensive reform

• Issues– Arbitrary choice of issues– Do not take stand on the most difficult issues– Lack of coordination with on-going OECD work– Overreliance on domestic law solutions– But, no fundamental solution to coordination between domestic and

treaty laws– No principle guiding residence and source income allocation– Disregard of new issues – Disregard of complexity of multilateral business arrangements

Conclusions (Cont.)• Key concerns

– Unprincipled approach– No address of conflicting policies– Unrealistic schedule – Lack of accountability measures and “next steps”

• Points to think about– Evolutionary shift to a multilateral paradigm based on current bilateral

basis– Forum is a key issue– International consolidation (follow business structure)

• Tie to country by country reporting– Formulary apportionment– Accept the need to fundamentally adapt to economic changes and

legal needs• Intangibles, derivatives are different• Business taxation must be reformed, not merely tweaked